“The only way they can really do it is through a simple exclusionary approach (ie avoid tobacco, alcohol, oil, or gambling).”
McDermott says: “To do ESG properly you need to take an active approach. A purely passive ESG approach is a lazy option that risks some weak ESG companies falling through the cracks.
"A good active ESG manager will be regularly engaging with the companies they own and helping to shape the direction of the company through meetings and active voting.”
Henry Tapper, chair of AgeWage UK, works with pensions companies, some of which invest their clients’ savings into ETFs. Tapper highlights that some ETFs, (those that are synthetic, rather than physical) have no voting potential, and therefore the possibility of stewardship is minimal.
“The capacity to influence the voting of shares when holding ETFs is very limited. [Synthetic] ETFs may not hold assets, only derivatives which carry no voting rights. In practice advisers have virtually no leverage on the management of the companies whose performance those ETFs are exposed to.”
But Morningstar’s Dutt says index managers and stewardship teams of ETFs have an advantage by the very fact that they do not "vote with their feet".
She explains: “Index managers’ stewardship teams can improve ESG practices and corporate oversight through proxy voting and engagements. Unlike active managers, index managers can’t vote with their feet. Their funds must hold whatever stocks the underlying indexes dictate. In that regard, they are the ultimate long-term investors.”
She says this “encourages them to focus on issues that could have a bearing on shareholders’ outcomes over the long term, such as board composition, management compensation, and effective oversight and disclosure of relevant risks”.
Integrated approach
Raymond Sagayam, chief investment officer of fixed income at Pictet Asset Management, says investing in ESG is very nuanced and needs an integrated approach. He questions the value of investing passively or actively when it comes to ESG.
Sagayam asks: “Can you effect ESG integration comprehensively in a passive way, or by its very nature, given how nuanced it is, must it be done actively?”
He advocates that as a passive investor “you cannot divest even if the company has improper ESG practises and shows limited signs of progress. In my view, active asset management is the only way in this space".
However, there are solutions and strengths to stewardship, even within passive funds.
Treiber says: “ETF issuers have become large proponents of ESG and, given the systematic nature of the ETF structure, focus on strong processes, which are at the core of their business. Having a dependable process is key to achieving successful outcomes.”
